State Bank of India, the nation’s largest lender, will raise interest rates for overseas credit to protect its profit as the rupee’s plunge to a record raises the risk of borrowers defaulting on their loans.
The state-owned bank will increase lending rates to cover the probability of rising bad loans from unhedged currency exposure and higher foreign-currency yields, said Managing Director Hemant Contractor, who heads the lender’s international operations. Overseas loans accounted for more than 16 percent of State Bank’s 10.8 trillion-rupee ($177 billion) loan book as of March 31, exchange filings show.
The failure by companies to protect against currency swings, combined with rising U.S. Treasury rates, will boost average costs for dollar-denominated debt, he said. The yields for Indian companies surged in June at the fastest pace since October 2008, according to HSBC Holdings Plc indexes. Raising lending rates for debt taken abroad may help State Bank improve its net interest margin for international loans, which narrowed to the lowest level in two years in the quarter ended March 31.
“Banks want to price in risks from rupee volatility and global economic uncertainty,” Contractor said in an interview in Mumbai. “Bond yields have gone up in overseas markets. Since we have to tap the markets regularly for meeting the demand, we will have to price loans higher.”
Net interest margin on international loans at the lender narrowed to 1.5 percent in the three months to March 31, the lowest in two years, exchange filings show. The measure was at 1.49 percent in three months to March 31 at state-run Bank of Baroda, compared with 1.68 percent a year ago.
Bad loans at the international division of State Bank fell to 1.66 percent of the total as of March 31 from 1.86 percent the year before, exchange filings show. Most of the loans are hedged, Contractor said. State Bank has an overseas “borrowing pipeline” of more than $1 billion, he said.
“Banks are left with no choice but to raise the rates on overseas loan book to protect profits,” said Nitin Kumar, Mumbai-based banking analyst at Quant Broking Pvt. “Even on the domestic front margins are under pressure for several banks after the recent reductions in base rates.”
The yield on benchmark U.S. Treasuries has risen more than once percentage point since May 1. The rate touched 2.75 percent on June 25, the highest since August 2011, according to data compiled by Bloomberg.
Average yields on Indian dollar-denominated bonds rose 127 basis points to 5.32 percent in June, the biggest monthly increase since October 2008, according to HSBC indexes.
State Bank’s shares rose 1.2 percent to 1,894.65 rupees in Mumbai. They have slumped 21 percent this year while the benchmark S&P BSE Sensex remained little changed.
The rupee, which fell to an unprecedented 61.2125 per dollar yesterday, gained 0.8 percent to 60.1450 after regulators announced steps to curb speculation in the derivatives market. The rupee is still Asia’s worst-performing currency in the past three months.
The currency has been depreciating after speculation that the U.S. Federal Reserve may pare stimulus measures led to a flight of funds out of riskier emerging market assets. The rupee plunged after Federal Reserve Chairman Ben S. Bernanke on May 22 first signaled a potential reduction in the monetary authority’s monthly bond purchases.
“There is a concern on the way rupee is behaving, and its impact on corporate balance sheet,” Contractor said. “If the slide continues, it could become more worrisome.”
The Reserve Bank is asking the lenders to increase the rates on unhedged exposure to prompt companies to insure their positions, said Vishal Narnolia, a Mumbai-based banking analyst at SMC Global Securities Ltd.
Companies in the South Asian nation, which borrowed about 6.2 trillion rupees from overseas markets till Dec. 31, left about 60 percent of the loans unhedged as per Reserve Bank estimates, Sanjay Mathur, head of research and strategy in Singapore at Royal Bank of Scotland Group Plc, wrote in a June 25 report.
The rupee’s drop prompted JSW Steel Ltd. to scrap a plan to raise dollar loans to refinance part of its 280 billion rupees of borrowings. Lower demand for foreign-currency denominated loans may slow growth at State Bank’s international division, which contributed 17 percent of the lender’s 141 billion-rupee profit in the year ended March 31.
“We are still seeing requests from companies for loans at low rates that prevailed earlier,” Contractor said. “But the rates will have to go up.”